China removes capital inflow cap in bonds

China took a major step toward giving foreigners free access to the world's third-largest bond market as it tears down restrictions on capital inflows to counter an exodus of money that drove the yuan to a five-year low.

The People's Bank of China saidmost types of overseas financial institutions will no longer require quotas to invest in the interbank bond market, which accounts for the bulk of debt in the nation. Commercial lenders, insurance companies, securities firms and asset managers were included on a list of those eligible and the authority said it also hopes to attract long-term investors such as pension funds and charities. Hedge funds were not included, while foreign central banks and sovereign wealth funds won access in June.

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"This is a real game changer," said Becky Liu, senior rates strategist at Standard Chartered in Hong Kong. "Previously, the market was only open to a handful of foreign investors, and with a strong bias towards public sector investors, now it's been opened up to nearly all investors. Speculators are probably the only exception."

China is opening its capital markets to foreign investors to try and draw money as the slowest economic growth in a quarter century drives funds abroad, pressuring the yuan. Freer access will also help the nation's bonds gain entry to global benchmarks, bolstering appetite for the securities as a restructuring of local-government debt leads to record issuance.

The amount of bonds outstanding in China totaled 48.8 trillion yuan ($7.5 trillion) at the end of December, according to the central bank. The interbank market totaled 35 trillion yuan at the end of January and foreigners held less than two per cent of this, ChinaBond data show. China's 10-year sovereign yield of 2.87 percent compares with 1.69 percent in the U.S., the world's largest bond market, and sub-zero in second-ranked Japan.

"Many foreign investors will be interested in coming onshore as China's bond yields are higher compared with other nations," said Iris Pang, a senior economist for Greater China at Natixis SA in Hong Kong. "This will help offset some outflows but I don't expect it to bring significant inflows in the short run as foreign banks still need time to research into China's bond market. I expect much more inflows to take place in the second half of 2016."

The latest opening up of China's bond market comes after the currency regulator relaxed restrictions on its Qualified Foreign Institutional Investor program this month, giving foreigners improved access to the nation's stocks and debt.

Attracting foreign capital has taken on greater urgency after the PBOC burnt through almost $300 billion of the nation's foreign-exchange reserves supporting the yuan over the last three months. The currency sank 3.9 per cent versus the dollar in that time, before strengthening 0.6 per cent in February.